Like-kind exchanges in general

No gain or loss is recognized on the exchange of property
held for productive use in a trade or business or for
investment if that property is exchanged solely for property
of a like kind which is to be held either for productive
use in a trade or business or for investment. Nonrecognition
treatment doesn't apply to stock in trade or other property
held primarily for sale or to certain other excluded property.

Thus, for nonrecognition treatment to apply all of the
following requirements must be satisfied:

The transaction
must in fact be an exchange;

The exchange
must be for like-kind property;

Both
the property transferred and the property received must
be held for productive use in a trade or business or
for investment;

The
property must not be property held primarily for sale
or certain other excluded property.

A transfer of property meeting the requirements described
above (footnotes 1 through 2.1) may qualify as tax-free
even though the taxpayer also transfers property not meeting
those requirements or money. However, nonrecognition treatment
does not apply to the property transferred which does
not meet the above requirements.

Like-kind exchanges need not be simultaneous. Nonrecognition
treatment applies to deferred like-kind exchanges if the
property to be received meets the identification requirement
and the exchange is completed within certain time limits.

In the case of exchanges between related persons, nonrecognition
treatment under Code Sec. 1031 doesn't apply if either
the property transferred or the property received is disposed
of within two years after the exchange.

Multiple party exchanges may qualify for nonrecognition
treatment.

A taxpayer who exchanges property in a like-kind transaction
has to report the exchange, even though no gain or loss
is recognized, on Form 8824. If the taxpayer has any recognized
gain because he received money or unlike property (i.e.,
boot.) as part of the exchange, the taxpayer has to report
it on Form 1040, Schedule D or Form 4797, whichever applies.

How to Structure a Like-Kind Exchange

There are two time deadlines we must meet: First, within
45 days from the date you transfer the property you now
own, you must identify in writing the replacement property
you wish to acquire. Second, you must receive this property
within 180 days from the date you transfer the property
or by the due date for your tax return (including extensions),
whichever is earlier.

You must be using the property you plan to relinquish
for productive use in a trade or business or investment.
Similarly, you must intend to use the property you acquire
for one of these two purposes. Also, the property you
relinquish and the property you receive must be of like-kind.
This means that the nature and general character of the
properties must be similar. Thus, you can exchange a piece
of unimproved realty for improved real property.

These types of property cannot qualify for nonrecognition,
even if they are of like-kind: inventory, stock, bonds
or notes, other securities or indebtedness, partnership
interests, certificates of trust or beneficial interests,
or choses in action. If you receive any of these properties
in the exchange, you will have to recognize gain equal
to the fair market value thereof. However, the rest of
the transaction can still qualify for like-kind treatment.

It is likely that the replacement property you wish
to acquire will not be precisely equal in value to the
property you relinquish. Should this occur, cash or other
property may be included to equalize the exchange without
causing loss of nonrecognition treatment. However, the
party receiving such “boot” must recognize
gain equal to the sum of cash and the fair market value
of the nonqualifying property received.

Frequently, parties to an exchange are unable to transfer
title on the same day. A common reason for this is that
one of the replacement properties has not yet been identified.
These types of exchanges are called “nonsimultaneous.”
Nonsimultaneous exchanges present special challenges because
the party that is able to transfer title first often wants
the other party to place funds in escrow or make similar
arrangements to ensure performance in accordance with
the parties' agreement. If you use an escrow fund or similar
arrangement, there is a danger that the IRS could treat
you as having “constructively received” the
funds and tax you on the full amount thereof. With proper
planning, however, it is possible to avoid this result
by use of several “safe harbors.”

These are some of the key issues involved in structuring
a like-kind exchange. Please give me a call at your earliest
convenience so that we can determine how to best utilize
the safe harbors and answer any questions you might have.

Common Questions and Answers Relating to Like-Kind Exchanges

Question
and Answer 1:Does a taxpayer have extra time to qualify an exchange
under Code Sec. 1031 if the 45 or 180-day time period
ends on a Saturday, Sunday, or holiday?

Probably
not. It is unclear whether Code Sec. 7503 extensions of
time apply to like-kind exchanges. To be safe, taxpayers
should complete the transaction before such dates.

Question
and Answer 2:Does real or personal replacement property need
to be described in detail?

Yes. Real
property will be deemed unambiguously described if it
is described by a legal description, street address or
distinguishable name. Personal property will be considered
properly identified if it is described by a specific description
of the particular type of property.

Question
and Answer 3:Can constructive receipt be avoided in an exchange?

Yes. A
taxpayer may employ a qualified trust or escrow, a security
or guarantee agreement, qualified intermediary or a growth
or interest factor in order to avoid constructive receipt.

Question
and Answer 4:Can constructive receipt be avoided in an exchange
if a safe harbor is not used?

Probably.
A taxpayer may avoid constructive receipt if he uses an
escrow agreement based on a qualified escrow account or
relies on case law.

Question
and Answer 5:Is it possible for a taxpayer to avoid like-kind
treatment?

Possibly.
If a taxpayer intentionally fails to meet the formalistic
requirements of Code Sec. 1031 like-kind treatment may
be avoided. However, if the transaction resembles a like-kind
exchange in substance the transaction may be recharacterized
as a like-kind exchange.

Question
and Answer 6:Can a taxpayer avoid recognition of gain on the
assumption of liabilities if he places a liability on
the property he is relinquishing immediately before
the exchange?

Yes. If
the money borrowed is from an independent lender, at a
market rate, and is obtained in arms length transaction
gain is not recognized on the assumption of liabilities.

Question
and Answer 7:If a taxpayer acquires property to be used in the
exchange immediately before the exchange will the taxpayer
still receive nonrecognition treatment?

No. The
IRS has ruled that property acquired immediately before
the exchange does not meet the “held for”
requirement.

Question
and Answer 8:If a taxpayer disposes of the replacement property
immediately after the exchange is the taxpayer still
entitled to nonrecognition treatment?

No. The
immediate subsequent disposition of replacement property
indicates an intent not to continue the investment.

Question
and Answer 9:If a taxpayer “gifts” the replacement
property to a third party following the exchange is
the taxpayer still entitled to nonrecognition treatment
on the exchange?

Yes. If
a taxpayer demonstrates that the motivation behind the
gift was not the ultimate liquidation of the property.